- The Washington Times - Monday, December 8, 2003

Federal Reserve Chairman Alan Greenspan and his colleagues on the central bank’s monetary-policy committee meet today amid virtual certainty that no change in the Fed’s targeted interest rate will be made. Based on current and projected economic conditions, it is appropriate for the federal funds rate to remain at its 45-year low of 1 percent.

One item on the Fed’s agenda that could be subject to internal debate will be the phrasing of the committee’s increasingly explanative press release. The Fed’s policymaking arm, the Federal Open Market Committee, has issued a press statement following each of the regularly scheduled meetings (eight per year) and the occasional unscheduled meeting. After the last three meetings, beginning in August, the Fed’s statement has declared that “the Committee believes that policy accommodation can be maintained for a considerable period.”

Formally projecting its policies into the relatively distant future — i.e., “for a considerable period” — marked a major departure from previous Fed signals. Before then, the Fed was understandably reluctant to tie its hands for any longer than the period between meetings.

However, the need to clarify its future intentions in August followed an unusual, and unwelcome, period of confusion in the financial markets. That disturbance erupted after the Fed’s June meeting, at which it lowered its targeted rate by one-quarter percentage point in the face of widespread anticipation that a half-point reduction would be forthcoming. Amid the subsequent turmoil, long-term rates surged. The 30-year fixed mortgage rate, for example, jumped from 5.21 percent before the June meeting to 6.34 percent prior to the August meeting. Once the Fed announced in August that monetary policy would remain expansionary “for a considerable period,” the bond market quickly stabilized.

As the Fed looks over the latest economic data, it will no doubt conclude that monetary policy must remain “accommodative” for quite some time. After all, while the labor market has apparently reversed its deterioration, robust growth has not yet returned. Thus, even though the economy rocketed ahead at an annual rate of 8.2 percent during the third quarter, a large output gap remains, acting as a brake on any underlying inflationary pressures in the foreseeable future. Meanwhile, the economy’s current, historically low core inflation rate of about 1.25 percent and its 25 percent in unused capacity combine to reinforce the notion that inflationary pressures will remain subdued for a long time.

Given current and likely future economic conditions — the consensus growth projection for next year is a solid, but hardly breathtaking, 4 percent — it makes no sense for the Fed to risk needlessly spooking the financial markets by changing its public intentions. The markets need to hear that “the Committee believes that policy accommodation can be maintained for a considerable period.”


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